A Brief Introduction to the Stock Market

Over the next few months, we are going to be diving into the stock market.  Today, we’ll start with a basic introduction to the major markets and indexes in the United States, and as the days progress, the topic will become more and more advanced.  Hopefully, you’ll have completed a crash course in understanding the stock market, which will better prepare you for the day you decide to invest.  Each post will be linked to the previous ones, so if you come in halfway, we’ve got you covered.

If you’re unfamiliar with the stock market, then there are thousands of terms that mean diddly to you.  While it would be nice for everyone to come out of high-school and college a financially responsible individual, that’s not always the case.  Investing can be a very scary proposition, even for someone who knows all there is to know, so we’ve put together a brief review of two of the major markets and two of the major indexes you hear about every day in regard to trading stocks in the United States.

NYSENew York Stock Exchange

The New York Stock Exchange (NYSE), located at 11 Wall Street in Manhattan, is the oldest and largest stock exchange in the world today.  Every weekday, from 9:30amET to 4:00pmET, stocks are traded at a rapid rate by the 1,366 members who  have “seats” on the exchange.  The prices for these seats were sometimes as high as $5 million to acquire, but the NYSE now sells one year licenses to trade directly on the exchange floor.

The history of the NYSE dates back as far as 1792 when 24 stockbrokers decided to create a place where businesses could be openly traded.  As the NYSE progressed, the location of daily trading activities had to be changed on a regular basis to accommodate the increasing number of traders.  Today, there are over 2,500 listings in the exchange and the current market value of the NYSE is more than triple that of it’s closest international exchange (Tokyo Stock Exchange).

Dow JonesDow Jones Industrial Average

The Dow Jones Industrial Average (DIJA or “The Dow”) is the most widely followed index of large-cap American stocks. It is comprised of 30 actively traded blue chip companies hand-picked by the editors at The Wall Street Journal (published by Dow Jones & Company).  The Dow officially started in 1896 by Charles Dow and his associate, statistician Edward Jones, with only 12 stocks. Today, there are four Dow Jones measures: the Dow Jones “Industrial” being the most quoted.  At the beginning and end of the trading day, the Dow Jones Industrial Average, expressed as a single number, reflects how corporate earnings reports, as well as worldwide events (like wars, elections, natural disasters and acts of terrorism) have bolstered or harmed our economy.

The Dow is computed using a price-weighted indexing system.  All 30 stocks are added up, then divided by the “Dow Divisor” which is represented by the lower-case d in the formula below.  The Dow Divisor is routinely adjusted to offset stock splits, dividends and other changes in the current stock market.  As of April 22nd, 2010, the Dow Divisor is set at .132319125:

NasdaqThe NASDAQ Stock Market

The NASDAQ Stock Market is a market similar to the New York Stock Exchange (NYSE), where stocks are traded — though not on a trading floor. All the trading on the NASDAQ is done via a network of computers and phones.  It all started in 1971 as a mere bulletin board service providing stock quotes. There was no way for the buyers to reach the sellers, so NASDAQ initiated a computer-based trading model to connect the two parties. It also provided over-the-counter (OTC) stocks not listed on other markets.  Today, it is the largest U.S. electronic equities exchange and has more trading volume than any other stock exchange in the world.

In 2008, NASDAQ merged with OMX ABO, a Stockholm-based operator of exchanges. The new company is named NASDAQ OMX Group and lists stocks for over 3,800 companies. It also provides all kinds of stock trading related services for 70+ other stock exchanges in 50+ countries.  What remains unique about the NASDAQ is that it offers after-hours (4PM-8PM) and pre-market (7AM-9:30AM) trading, allowing investors to get a glimpse at market conditions outside of normal trading hours.

Standard and PoorsStandard & Poor’s 500

Dating back to 1957, the S&P 500 is a published index of 500 common stocks actively traded in the U.S. As a result, it is considered to be an excellent indicator for the ups and downs of the overall domestic stock market — better in some ways than its companion, The Dow Jones Industrial Average, because it consists of more stocks.  The S&P 500 is selected by a committee at Standard & Poor’s, a division of McGraw-Hill. This committee meets regularly to make sure the 500 companies in the index, and their stocks, are representative of the stock market as a whole.  Companies are chosen based on market size, liquidity and sector. Most are mid-size or large-cap companies and five of them are even internationally based.

The S&P 500 used to be calculated just like the Dow Jones, using a price-weighted indexing system.  These days, a float-weight system is in place, which takes into account the number of shares available for trading as well as mergers, spin-offs and anytime there is a change within the company.  The scale system used by the S&P 500 has proven to be significantly more complex than that of the Dow Jones.

Topics: Investing

4 Responses to “A Brief Introduction to the Stock Market”

  1. Great work!

    I think this is something that is lacking in financial education. I mean…there are a lot of people out there selling their systems on how to make money in the stock market, but I have yet to see a product that just explains what the hell is going on to begin with.

    I like how you have taken the time to just explain from the start 🙂



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